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By Ashley Redmond | 06-12-2013

Closed-end funds picking up the pace

Five IPOs in the month of June means there are more funds for investors to compare, says Closed-End Fund Advisors' John Cole Scott.

Ashley Redmond: I'm here with John, and he just finished a great panel on closed-end funds.

John, thanks so much for joining me.

John Cole Scott: Pleasure.

Redmond: So, for the investors watching, if they have an opportunity to purchase a closed-end fund and say it's trading at a discount of 15%, what are some of the other things that they need to consider other than the discount? And maybe what are some of the things that they need to be cautious of?

Scott: Well, it's a great question. I mean closed-end funds can trade at discounts or premiums. If you think of the net asset values what the fund is actually worth and if you can buy it at a discount and you want to be in the fund, i.e. the manager and the sector, you're actually getting more money controlled for your exposure. So, theoretically you can only put $0.85 in for every $1 you intended to invest, keep that cash on the side or reinvest in something else, have the same exposures if you had bought the open-end fund; or you can just buy the full dollar amount on that fund and have the extra potential returns of the discount narrowing or even if it stayed the same, you still bought $1 for $0.85.

Redmond: Okay. So, when you're telling investors this, what if they say, sometimes it seems too good to be true? Sometimes I think that closed-end funds are a little bit risky?

Scott: I think they can be. I would substitute risky for volatile. So, the average equity fund is only 12% to 25% more volatile market price versus net asset value, but a closed-end bond fund is an equity that derives its value from bonds. Its volatility for taxable bond fund is about a 150% more of the net asset value. For muni bond funds, I'll consider the least risky place is 315% more volatile than its net asset value. That sounds risky, but if you buy a good fund with a good manager and you want that tax-free income or that taxable bond exposure, the volatility helps you buy a little cheaper or sell a little more expensive. If you go into the equation knowing that, we feel you have more alpha in the end.

Redmond: Do you feel like that's sometimes a misconception with closed-end funds?

Scott: Well, the misconception created efficiency, so if you track them, that's appropriate. So, the average closed-end fund yields 6.5% in the U.S. If you take out discount, leverage and anything that's not income, it's 4%. So the average fund has to do 2.5% and something else. If you look at the blended yield of a closed-end fund and what the manager has to do to meet his distribution policy, if you can believe it, then you should be in that fund unless you're simply a trader. And then you're not going to be in long enough to care about the dividend.

Redmond: Okay. So, on the panel one thing you said that stood out to me is that you tracked the correlation figures for funds versus the NAV and you gave the example of highest and lowest point for taxable bond funds. So, why do you track this and what does that tell you about the market?

Scott: Well, when we're buying closed-end funds, we're trying to understand whether the market is reacting to the guts of the portfolio or what the manager is doing or just risk-on, risk-off. I love the sector; hate the sector, closed-end funds trading and carnage all in their own right. So we've tracked that data point for almost a year, and the taxable bond funds have bottomed out in the 40 range, and high for them is the mid-70s, and right now as of Friday’s close it’s a 69% correlation figure. So, right now, even though they've gotten hit, it's not just because investors are pulling away from what's going on; it's more reacting to what's happening in the bond market versus equity funds tend to trade 60 to 80, taxable bond funds at 40 to low 70s.

Redmond: Okay. And taking a look at the market, I know Mike the moderator said, there is five IPOs this month and I believe that hasn't happened since 2007. So, what does that tell you about the markets?

Scott: Well, it's actually interesting. We've had almost as many assets raised year-to-date through last Friday as all of last year, which was a great year. The size is bigger. I believe a calendar of two closed-end funds on average a month is a healthy calendar. We tend to see a lag in the summer. So, having five in June is great because there are more funds for people to make comparison trades against. So, it's very healthy, but remember, if you own an MLP fund and six MLP funds come out, you might have a little bit of a discount pressure because now there is more capacity. And a lot of people argue discounts and premiums exist because of supply and demand of the number of shares available and the IPO process will adjust what's available.

Redmond: Okay, great. Thanks so much, John.

Scott: Pleasure. Thank you.

Redmond: To get more information on the conference, go to or